Venture capital (VC) financing may be a method of choice for startups across the globe, but as alternative funding options become more widely available, some founders are doing what they do best: thinking outside the box. Alternative funding is an increasingly viable option for startups, particularly those who want or need to look beyond venture capital.
Venture capital funding isn’t the right solution for every startup. While the capital raised can be substantial, the process can be time-consuming and a distraction from revenue-generating activities. Finding a VC firm whose area of focus and strategy aligns well with your business can be difficult and convincing them to invest can be even more arduous. To obtain financing of any kind, understanding the value of your startup can be critical.
Challenges with venture capital funding
Venture capital activity reached a fever pitch in 2021, with more than $329 billion in investments, as compared to roughly $166 billion in 2020. In addition to providing significant financial investment, VCs also offer startups advice and mentorship. As the market has begun to cool recently, however, there has been a tightening of the proverbial belt. In other words, it now takes more convincing (and equity) to sway potential investors to take a risk on you.
As with any type of startup funding, there are conditions involved with venture capital funding. Companies with VC backing are generally required to set up a board of directors and formalize their internal structure to facilitate growth and transparency. This can limit the company’s flexibility and reduce the founder’s control. Also, VC partners often expect rapid growth as a result of their involvement and investment, which can increase the already high pressure felt by the founder(s).
Common alternatives to VC funding
Looking beyond venture capital can be key to securing a more diverse array of funding. Some tried and true methods include pursuing Small Business Innovation Research (SBIR) grants or joining an incubator/accelerator program. Both options offer less overall funding than VC, but incubator programs also provide mentorship.
SBIR is a highly competitive program powered by the Small Business Administration that awards grants to encourage domestic small businesses to participate in federal research and research and development that also offers the potential for commercialization. While it’s possible to join multiple incubator programs, participation in SBIR programs is generally limited to businesses that qualify under the grants’ strict acceptance policies.
Joining multiple accelerator programs also comes with its own potential downside: involvement in multiple incubator/accelerator programs can leave a poor impression on potential investors, leading them to believe your business model is not viable and overly dependent on the support of incubators to keep it running.
Intellectual property (IP) as collateral
Innovative startups are exploring additional forms of funding. An increasingly popular option requires companies to develop an IP value creation strategy as part of their strategic plan. In doing so, companies develop an IP portfolio with definable value that begins with properly identifying, capturing and protecting IP, and potentially licensing with a third party.
Under this option, a valuable IP asset or portfolio of assets, such as a patent, can be used to collateralize loans for growth capital with the added benefit that IP-backed loans offer a non-dilutive source of capital that, compared to traditional equity financing, is more competitively priced. This may be especially valuable if your startup has few tangible assets to serve as collateral.
This option has been promoted by global professional services firm AON, which has developed its own platform to assess and value IP assets at scale and at speed, removing some of the uncertainty involved in pricing intellectual property assets.
This may not be a viable option for companies who are either without IP assets carrying sufficient value or are still developing their IP assets. There’s also the added cost associated with using a third-party firm such as AON to assess and value the IP assets. An internal review and consultation with a certified public accountant or adviser can help you understand if this method is right for your business at its current stage.
A return to angel investment groups
Another alternative for startups may be returning to the option of angel investing or financing. While startup founders are still required to give up company equity in exchange for funding, obtaining an angel investor can nonetheless inject much-needed capital. Even mature startups, which may typically seek VC funding, have approached angel groups to syndicate funding in order to forestall the necessity of raising funds through a traditional VC investor.
Securing funding as a startup involves its share of challenges and complexities. However, there are an increasing number of options outside of traditional venture capital to explore, some of which may be a better match and also better position your startup for the future. An experienced CPA and adviser may be able to guide you through this process so you can determine the best option to move your startup closer to success.
Every day at Anders, we serve as a catalyst for those striving to achieve their highest potential and we carry this mentality on to our clients and community. Through a collaborative approach and a combination of tax, audit and advisory services, we help our clients achieve their goals.
Jeff Milam, ASA, specializes in valuation, health care and other advisory services. He works with clients in a wide range of industries and provides valuation and advisory services for mergers and acquisitions, tax, financial reporting and strategic initiatives.
